CRE Trends: Financing Development Deals in an Uncertain Environment

CRE Trends_NAIOP

By: Danielle Feroleto

If the commercial real estate market agrees on one thing, it is that the financing market is experiencing continued ups, downs and regulatory changes that will continue to impact the ability for deals to secure funding.

While the first half of 2016 can be characterized as very volatile, with fear of what cycle the market is in and if there are value-creation opportunities, this summer the capital markets have come on very strong, according to Gregg Applefield, managing director of Mission Capital Advisors. He moderated a panel of commercial financing experts at Commercial Real Estate Conference 2016 in Scottsdale, Arizona.

One of the key areas of interest is the wave of loans for the last cycle coming due at a rate that will hit new highs at its peak. Tom Fink, senior vice president/managing director with Trepp, LLC, put this into perspective, saying that next year maturing commercial mortgage-backed securities (CMBS) loans of $200 billion are coming due.

Most distressed properties in retail and office with respect to upcoming CMBS maturities are critically impacted by this trend, and according to the panel, decisions have to be made to make the asset a success.

Gregg pointed out that while the market is enjoying low interest rates, looming regulations in 2017 may affect borrowers’ ability to refinance the loans. This naturally impacts the lenders’ ability to be more aggressive and provide lower rates. Underwriting in a low-interest rate environment makes the debt yield critical (income of the property divided by the loan balance).

For the assets that do have loans coming due, Michael Singh, principal and executive vice president of A10 Capital, said that there are several factors that impact the considerations, including lease expirations, functional obsolescence in the product, and several factors specific to that particular product type.

For those assets where the property profile has changed over the years, there are new options that can assist in this stage.

“People are less concerned with this coming wall of maturity, because much of this product type needs redevelopment and re-stabilizing and that is just not what CMBS does, that is more of a traditional financing deal,” Fink said.

While traditional primary markets such as Chicago, San Francisco and Los Angeles continue to hold the largest sales volume in the nation, office and industrial in secondary and tertiary markets are experiencing ever-increasing investment activity. But finding capital in these markets continue to present challenges.

Fink added: “When a property in this market goes bad it has much more impact and can mean more than 50 percent loss of value, simply because there is less opportunity to recover.”

Singh commented on the underwriting challenges of smaller office and industrial properties, saying, “Single-tenant property is a bit more of a challenge; it is critical to look for longer-term leases, credit and 60 percent or less leverage and good market matrix helps us to get our arms around these types.”

Some troubled products are still in special servicing, creating opportunities to buy distressed properties, but the best execution for these financing groups is to sell the loan and open it up to REO investors.

Owner-operated investors buying multifamily deals continue to be in demand; there is a lot of capital continuing to chase more multifamily. For the product not requiring a lot of rehab, it is a market that continues to provide plenty of opportunity.

This year will likely be remembered as one of continued recovery, favorable interest rates and yet one that potentially could look very different next year with regulations and a wall of loan maturities coming due, emerging secondary and tertiary market activity, and continued change.

Image courtesy of Business Rewritten

[Editor’s Note: SmallGiants recently contributed live blogs during NAIOP’s Commercial Real Estate Conference 2016  held September 26 – 28, 2016 in Scottsdale, Arizona. This series highlights trends in the commercial real estate industry. These are re-published with permission from SmallGiants.]

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